Invisible to the Banking System?

Building a Credit Rating

There are a host of reasons why someone might be invisible to the banking system. A spouse uses their partner’s account; an ex-convict hasn’t made a deposit in years; an immigrant has no credit history in this country…

Delphine Caubet    Files Economy

All these people have one thing in common: their lack of a credit rating leads financial institutions to assume the worst about them.

Ordinarily, people use credit cards to withdraw money, rent a car, pay via the Internet… In our modern society, only 6 cents out of every dollar’s worth of transactions takes place in cold hard cash. But gaining access to a credit card isn’t automatic.

You have to first earn the confidence of a banker.

Banks often offer first-time clients use of a prepaid credit card. The word “credit” is a misnomer, because you the client aren’t actually getting any deductions, or credits, forwarded your way. When you use one of these cards you’re drawing from your own funds; you don’t actually receive an advance of any kind from the bank.

New Customers

Offering a credit card to a new client is often the easiest option for the bank itself. It gives the bank the opportunity to evaluate the card holder’s spending habits. If they like what they see, this can lead to future opportunities for loans and other financial services. But beware, says Philippe Veil of the Consumer’s Union.

Service fees for bank credit cards can run high. The bank can charge up to $60 just to activate your card. Transaction fees can pile up.

The use of a prepaid credit card in and of itself won’t necessarily build your credit rating, warns Sophie Sylvain, a financial planner at Mouvement Desjardins. Once your funds are exhausted you must put more money into your credit plan before using your credit card again. If you want to pay for something over the Internet, she suggests using an on-line service like Paypal, which usually does not charge a transaction fee.

Students usually have better access to credit cards because it is presumed that they will one day join the workforce. This is not assumed for new arrivals to Canada, or released prison inmates. It’s tough for them to prove to a financial institution that they will one day make millions, and are worth the risk for a loan or a mortgage.

Start Small

To prove you’re a good risk, Roger Lafrance of ACEF in Montérégie-Est, a branch of Quebec’s association of family finance co-ops, suggests you start with a modest credit line of $300 to $500. To a bank that’s laughably small, but it’s a fortune for someone with no previous line of credit. It’s a good opportunity to prove you can keep your head above water money-wise.

Credit files are evaluated by two companies: Equifax and TransUnion. These companies make their assessments by examining the number of accounts you hold, their balance, their payments made…

Every person’s file contains a rating composed of a letter (representing the type of credit) and a single digit: a 1 is a good risk to repay, a 9 is the worst rating on the scale. That is your credit score.

In theory, a financial institution must first ask your permission before checking your credit score. If you refuse, it looks bad: chances are, the lender will refuse your loan. Nonetheless, Roger Lafrance says that lenders are known to check credit scores without first obtaining the proper authorization.

Credit scores are very easy for lenders to access. And hardly anyone complains when it does occur, even thought it’s illegal. Quebec’s access to information commissioner has received 3 complaints in 2 years on this subject.

Lenders aren’t the only folks who may be interested in your credit rating. Reasons someone may wish to check your credit file are varied. It may occur if you’re asking for a line of credit; if you’re being considered for a job; if you owe a debt; if you want to rent; if you want to buy insurance; or if you want to enter into a business deal.

Oddly, every time your credit file is checked, your credit score actually goes down. Every event influencing your credit score stays on your file for 6 years.

Store Cards

Store credit cards can be useful for those looking to build a good credit score, says Martine Marleau, budget consultant at ACEF Montreal-Est. Stores aren’t nearly as fussy as banks: their cards are relatively easy to obtain. But be careful: transaction fees are usually much higher for store cards. “You have to watch what you spend, and be sure to make your payments every month,” says Marleau. Missing a payment can ruin your credit rating.

Simon Bilodeau of the ACEF Rive Sud de Quebec says you should never take out more than one card at a time. Know your limits, and always pay on time.

There is no one miracle way to build a solid credit rating. But there are some rules to follow: star small, and work with larger and larger dollar amounts as you go on. Pay on time. Watch your pennies. The professional consultants all agree: once you’ve earned a reputation for integrity and financial responsibility, “things can improve fast.”

Earn Trust

Take the time needed to gain a banker’s trust. There is no set timetable. Every situation is different. But most financial professionals agree that on average it takes about 1 to 2 years to build a credit rating from scratch.

Another useful technique: put some savings aside when you can. Mouvement Desjardin’s experts recommend you put a little money aside on a regular basis.

Even without a line of credit, just keeping a savings account can earn you the confidence of a bank, says Simone Bilodeau, “but it won’t help you with financial institutions or trust funds.”

Credit Rating Philosophy Under Fire

“The system doesn’t provide credit to people who have no credit to begin with,” points out Philippe Viel, spokesperson for the Union des consmmateurs (Consumers’ Union).

Indeed, the whole philosophy behind the credit rating system is, at best, strange and disturbing to Viel.

That’s because those who have never asked for credit and have paid all their bills on time will have trouble getting a credit file, “even though they’re the ones who are behaving,” he complains.

One thorny question for Viel and his Union: how credit ratings are scored in the first place. Viel’s Union is lobbying for a bonus/penalty scoring system. This method would lower fees as a reward for good behavior, and raise fees in response to bad behavior.

A credit rating can be negatively affected by life’s unavoidable trials: sickness, divorce, job loss… All sorts of reasons beyond the customer’s control can lead to a missed payment. “And that’s sad, because only negatives count,” says Viel.

A bank can make a fortune off of a stable taxpaying citizen for years and years – but when the bad times come, that client’s credit rating will take a plunge irregardless of all that past good conduct.

In such exceptional cases banks should delay assessing penalties, the Consumer’s Union argues.

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